One of these Friday afternoons there's probably going to be a press release from the FDIC announcing another bank closure. The Wall Street Journal has been ramping up coverage of this, with a piece earlier this week ("Real Estate Doom Loop Threatens America's Banks") and another today ("Tiny Bank Called Republic First Faces Test of Depositors' Faith") with a Vernon Hill angle.
The former president of the Federal Reserve Bank of Boston, Eric Rosengren, tweeted out praise of the second story: "Good article on Republic First in WSJ. Raises relevance of size in contagion. Negative net worth banks should be closed and merged to avoid contagious runs that are destructive to markets. If that isn't done, then a significant increase in deposit insurance levels is needed," he said. In a follow up tweet, he noted, "Allowing zombie banks is also costly. It seriously misallocates credit to save banks rather than high return loans. It caused decades of slow growth in Japan and threatens to do the same in China, insolvent developers and financial institutions do not make high NPV projects." NPV is net present value.
Basically, the Biden administration bank regulators have put themselves in a pickle. If they close a bank now, they risk restarting the runs that affected Signature Bank, Silicon Valley Bank, and First Republic Bank. If they don't close any banks, they risk the "zombie bank" problem summarized by Rosengren, and they risk eroding their credibility as regulators to enforce bank liquidity and solvency.
For opportunistic investors, this represents a potential moneymaking opportunity: short the regional banks that are going to fail, scoop up at steep discounts the ones that will survive (if, and it's a big "if", you can accurately figure out the difference between the two groups), get on the FDIC list to buy the assets, at bargain-basement prices, of the ones that are forced to close.
If you aren't an active investor in the banking sector, it's still worth paying attention to from a financial point of view, because there are spillover effects from banking into the rest of the economy, on everything from interest rate policy (higher rates could hurt some of the banks) to commercial and residential real estate.
From a public policy point of view, it's an example of how much power is given over to the administrative state. Congress sets the FDIC-guaranteed deposit limit (currently $250,000). The FDIC has asked Congress to raise the limit for business payment accounts, but Congress has not acted. The Treasury Secretary, Janet Yellen, has indicated depositors will be protected (as happened at Silicon Valley Bank and Signature), but it's not clear by what legal authority or practical mechanism, other than by either not closing any more banks or by raising the deposit limit by executive branch fiat (with costs shifted elsewhere).
And from a political point of view, it's the gorilla in the room. Biden's 2024 re-election hopes are riding on Bidenomics, and the last thing he needs is Trump adding bank failures to inner-city homeless encampments and influxes of asylum-seekers to fill out the portrait of American carnage.
One possibility is that the Biden regulators just let the zombie banks alone, to avoid the political and economic consequences of closing them. That could be the best of the bad available options. But it becomes less and less tenable the more the Wall Street Journal and Rosengren call attention to the fact that it's happening.
The best option would be a free-market solution of the sort one sees in other areas where there are distressed assets—like commercial real estate, where capital is rising to buy distressed office properties. Yet the government actions to shut down Silicon Valley and Signature mean that anyone investing new capital in a bank or bank holding company risks getting unpredictably zeroed out. That is a deterrent to would-be investors.